Catch up on retirement savings with a cash balance plan

Theresa leads an ob-gyn practice which has been financially successful but, at 53, she’s barely saved enough for what she feels will be a comfortable and secure retirement.With roughly $100,000 in a SEP-IRA she’s starting to wonder if she’ll have to work forever.

She recently started working with a financial advisor who recommended taking advantage of a unique retirement savings vehicle to accelerate the funding she will need to reach her retirement goals. Known as a Cash Balance plan, Theresa may now qualify to make much larger annual contributions (potentially $250,000 or more per year) compared to the $61,000 found within her current SEP-IRA.

Cash Balance basics

Cash Balance plans under the IRS are deemed qualified and tax favored. Moreover, they are considered “hybrid” plans because they combine the high employer contribution amounts of traditional defined benefit plans with many characteristics found within a defined contribution plan such as a 401(k).

When businesses set up a Cash Balance plan, the employer credits each participant with a "pay credit" (such as 5% of compensation) and an "interest credit" that is guaranteed as either a fixed or variable rate, linked to a benchmark index such as a 30-year treasury. Increases and decreases in the value of the plan's investments do not directly affect the benefit amounts promised to participants.

The funds contributed are tax deductible in the first year the plan is implemented and are considered an “above the line” deduction that reduces the business’ taxable income dollar for dollar. For participants, contributions are made pre-tax, and with higher contribution limits compared to other retirement plan types, high-earning individuals can accelerate their retirement savings. Furthermore, plan set-up and administration fees may be tax deductible to the business owner.

Actuaries are hired to calculate the formula employers must abide by each year as the promised interest credit. Since the employer is obligated annually to make this contribution, these plans work best for practices with high and predictable cashflows.

Outsourcing complexity

Cash Balance plans are specialized which require tax advisors and actuaries for implementation and administration. Managing these plans also requires investment knowledge and experience, to meet the annual interest credit rate determined within the plan document. As they are qualified plans regulated by the Employee Retirement Income Security Act (ERISA), they come with certain complexities which can be outsourced into a turnkey solution that integrates tax, fiduciary, actuarial and investment expertise into a single easy-to-administer program.

It’s easy to put off planning for retirement when you’re running a busy and profitable medical practice – and hard to catch up if you wait too long. Cash Balance plans may be an appropriate alternative to help you reach your retirement goals.

Ross K. Brown is vice president of business development at Payden & Rygel, a global asset management firm.

This article is for illustrative purposes only and not intended as professional tax, legal, or financial advice. Please consult your tax, legal, and financial adviser to review your specific circumstances. The statements and opinions herein are current as of the date of this document and are subject to change without notice. Additionally, the opinions expressed in this article may not necessarily be indicative of the house view of Payden & Rygel.